Bluford Putnam has served as managing director and chief economist of CME Group since May 2011. He is responsible for leading economic analysis on global financial markets by identifying emerging trends, evaluating economic factors and forecasting their impact on CME Group and the company’s business strategy. He also serves as CME Group’s spokesperson on global economic conditions and manages external research initiatives. He recently talked with JLN Managing Editor Christine Nielsen.
Q) The head of the Philadelphia Federal Reserve Bank warned recently against efforts to accelerate the nation’s economic recovery, citing the threat of inflation. According to Charles Plosser, the Fed has taken several steps to help revive the economy, and with a very accommodative monetary policy already in place, officials must guard against the medium- and longer-term risks of inflation. Would you agree with his assessment?
A) FOMC members and the market participants have deep divisions over the current relative balance of the risks of higher inflation versus slipping back into recession. At the current time, my perspective is that both risks are now very low. If the FOMC, however, keeps the Federal funds rate near zero through the end of 2014, as they have suggested they may do, then I think the risks of inflation will trump recession risks. But my view is that the FOMC may not follow its own guidance if my U.S. economic outlook proves correct and 2012 is a strong growth year with the unemployment rate in the 7.5 percent territory and falling by the fourth quarter. The Fed provides rate guidance, not commitments.
Q) How would you describe the current economy, and the outlook for the economy in the near term?
A) The 2012 outlook for the U.S. economy is the best it’s been in years. We see 3.5 percent to 4 percent real GDP growth in 2012, with the unemployment rate falling through 8 percent and to 7.5 percent by the fourth quarter.
The really important thing to understand about 2012 is that it’s not 2011. Those things that scared you to death in 2011 have pretty much diminished.
Q) What are some emerging trends?
A) The interesting catalyst for a better 2012 is not the emerging trends, although we are seeing job growth, declining unemployment, and signs that housing is coming off the worst of a very tough recession.
What is more interesting is the headwinds that have gone away or been diminished materially.
State and local governments were shedding jobs in 2010 and 2011. They have finally completed their adjustments to reduced revenues; their budgets are back in order, and job losses from state and local Governments in 2012 will not be problem for the private sector to overcome, as it was the last two years.
Consumers have largely completed their deleveraging process from the shock of the financial panic of 2008. It took three years. By default, foreclosure, or making cutbacks in debt usage, consumers spent much of 2009-2011 in a cautious mode. By mid-2011, however, there were signs that consumers had completed their rebalancing and were ready to grow their spending again on a sustained basis. These signs are being confirmed with better economic data.
Corporations returned to pre-2008 profitability in 2010, but they held onto their cash hoards due to the uncertainty in U.S. fiscal policy and potential for economic disruption related the European debt and bank capital adequacy crisis. Now, corporations are learning to grow even in times of increased ambiguity. The US fiscal policy is on hold for the election year – so the trouble is in 2013 and beyond. Europe’s woes are still making headlines, but the threat of a full-scale banking crisis has been taken off the table by strong action by the European Central Bank (ECB) to provide 3-year liquidity in massive quantities to the banking sector. European Governments, of course, are still struggling with their austerity plans – not a crisis anymore, just a long-term problem.
With all these headwinds diminished, the Fed’s zero-rate policy will gain traction and the economy will do very well in virtually all sectors in 2012.
Q) What is the biggest challenge our economy faces?
A) The biggest U.S. challenges are the divisions within the U.S. Congress and the difficulties political parties face sometimes when trying to work together. If the November election produces a Congress that cannot deliver compromises on the big fiscal issues, from taxes, to spending, to the debt ceiling, 2013 will be a tough year.
Q) What do you think of the Fed’s more open communication policy with the public? Is it making a difference? Is market reaction less “jumpy” because of this new way of doing things? Why or why not?
A) The Fed’s more open communication policy is certainly fun for economists and it may well add to market volatility in 2012 and 2013. One can see from the chart of FOMC member federal funds rate path expectations produced by the Fed on 25 January, that there is a wide dispersion of views on when to start raising the Federal funds rate and moving monetary policy back to normal. There were 6 in favor of 2012-13, and 6 for 2015-16, and only 5 for 2014. There was no consensus and there was no central tendency; there was dispersion, dissension, and uncertainty. The new openness will give all of us a snapshot four times a year about how the dissension in the FOMC is evolving over when to end the zero-rate emergency policy. The FOMC will be fascinating to watch and the new openness is highly unlikely to make markets less “jumpy” as some have suggested.
Q) What impact do you think the current interest rate environment is having on the markets? How are people trading a zero-interest-rate market?
A) The Fed’s zero-rate policy did not provide much stimulus in 2009-2011, because consumers, corporations, states and local governments were all trying to deleverage themselves and get their spending and balance sheets in line with the new reality of reduced expectation of growth and income. In a deleveraging environment, monetary policy has little impact, so the Fed got very frustrated. With the headwinds from deleveraging having ended in 2011, at least by our assessment, may analysts and a majority of FOMC participants are likely to be pleasantly surprised at the sustainability of the more robust growth we are seeing now. Monetary policy and low rates matter again!
Q) Are there other things that market participants should keep in mind about the current interest rate environment?
A) Yes, the FOMC provides its rate guidance based on its views of the economy and its commitment to balance inflation and recession risks. Like many on Wall Street, the FOMC members are not all that good at forecasting. If the economy proves stronger than they currently think, then the FOMC may take this as a pleasant and welcome surprise and may be much more willing to raise rates sooner (and take full credit for the recovery while doing so) than current market expectations. The current market expectations seem to take the Fed’s guidance much more as a commitment than as the guess it is. The Fed reacts to data, and if the economic data continues to improve, the debate within the Fed may change as well.